One of our close friends in Florida, Marbet Lewis of Greenspan Marder, recently penned an article about the need for reform of the tied-house laws in Florida. Marbet focused on the craft brewing industry and the difficulty of the small producer to develop its business in a time of overall consumer desire to experience authentic small brands. She was speaking about craft distillers and craft brewers in Florida, but she could just as well be speaking about small wine, beer and spirits producers in California, Texas, Illinois, New York and throughout the US.

While the industry benefits from the basic framework and ideology of tied house laws, our modern economy demands more targeted exemptions and special classifications to both promote and regulate growth – Marbet Lewis.

Marbet’s thesis is that our world of outdated tied house laws interferes with the healthy inter-tier relationships that benefit consumers and the industry; this includes access to investment capital and (especially in craft distilling) direct and effective access to customers via marketing channels and direct to consumer permits. Her call for targeted “exemptions” as versus the system of special interest exemptions should resonate with all forward-thinking industry members.

The Problem – New Technology and Process Innovation

Today’s alcoholic beverage industry is marked by technological and process innovation at every level, and in ways that were unfathomable even a decade ago. Information retrieval, accounting systems, ordering and delivery systems, social media and other new technologies pose challenges for regulators around the country attempting to fit new initiatives into statutes and regulations enacted in an earlier era.

The regulatory challenge usually involves determining what the controlling statute or regulation means in the context of the business facts presented. The problem with quick conclusions is that facts are often not presented clearly or in an orderly fashion, which results in difficulty for both the agency and the business attempting to discern if the new business falls within the permitted activity portions of the ABC Act.

What a statute or regulation means in the context of approving or prohibiting creative industry programs is always a challenge – new technologies usually do not neatly fit into the narrow legislative and regulatory enactments crafted for a different time.

That results in a system where approval of new and innovative business concepts, often ones that are permitted by other states or the federal government, are routinely denied, or are undertaken under a cloud, which impacts regulators, investors, managers and licensees.

Many regulators take the position that whatever process or innovation is sought cannot be permitted unless the legislature has expressly permitted it. However, sponsoring legislation is an expensive and time consuming process and new legislative exceptions often create more problems than they solve.

The Solution – Create a Forum for Program Analysis; NY does it and so can California

We propose a solution where the burden is on the new technology or system developer to prove to the ABC that the system is legal, and to provide an efficient forum for presenting that case.

This was brought home in a recent (January 19, 2017) declaratory ruling by the New York State Liquor Authority approving the Instacart internet marketing platform and product delivery protocols in New York. The importance of the ruling to Instacart and those using similar marketing platforms and delivery protocols cannot be overstated.

Significant investment of time and money in a marketplace can only be justified by industry member (and service provider) confidence that what they are doing will not threaten the licenses of the participants in the system or, worse yet, expose the participants to criminal charges for violating the state alcoholic beverage laws (for example, all violations of the California ABC Act are statutory criminal misdemeanors, and that could conceivably include liability for aiding and abetting the offense).

New York is one of many states that have a specific alcoholic beverage declaratory ruling procedure. California, however, has no specific procedure for obtaining rulings on alcoholic beverage business proposals. The lack of such a procedure hobbles innovation and introduces unjustifiable and unnecessary risk into the process of investing in, and managing, California businesses. Given the importance of the industry to the State, California’s regulation of alcohol can and should be made more transparent and should provide guidance on which industry members can rely.

Creating a Declaratory Rulings Protocol – it can be done

California has an administrative ruling statute that provides for declaratory rulings (through an agency not used by the ABC). We propose that the authorizing statute be amended to specifically include the ABC, to provide for ABC Appeals Board review of the ABC’s action in accordance with the California Constitution, and to provide for designating rulings as “precedent.”

Here is our proposed language. Please note that the Section 1 exclusion of the ABC from the general Government Code section is what allows the Section 2 inclusion of the ABC into the new procedure that we propose. That’s how the Government Code works.

Section 1

Government Code Section 11465.10 is hereby amended as follows:

Subject to the limitations in this article, an agency, other than the Department of Alcoholic Beverage Control, may conduct an adjudicative proceeding under the declaratory decision procedure provided in Sections 11465.10 to 11465.70 of this article.

Section 2

The following sections are added to Article 14 of the Government Code:

Section 11465.80

(a) Any person may file a Petition with the Department of Alcoholic Beverage Control for a declaratory decision with respect to the applicability to any person, property, or state of facts of any statute or rule enforceable by the Department.

(b) Petitions for a declaratory ruling by the Department shall:

(i) Contain a statement of the declaratory ruling requested;

(ii) Include a concise statement of the state of facts or uncertainty with respect to which a declaratory ruling is required and may include a statement by the petitioner of the outcome sought and the reasons therefor; and

(iii) be filed with the Department and directed to the attention of its General Counsel.

(c) The Department of Alcoholic Beverage Control shall reject any Petition for a declaratory decision as to which any of the following applies:

(i) The Petition does not comply with requirements of subsection (b) of this section;

(ii) The decision would substantially and directly prejudice the rights of a person who would be a necessary party and who does not consent in writing to the determination of the matter by a declaratory decision proceeding;

(iii) the Petition presents a matter that is the subject of pending administrative or judicial proceedings.

(d) Unless the Department of Alcoholic Beverage Control rejects a Petition pursuant to subsection (c), the Department shall:

(a) Publish the Petition on its website; and

(b) Provide a period of not less than 30 days for interested parties to file comments with respect to the relief requested and a period of not less than 10 days for the petitioner to file responses to the comments of interested parties; and

(e) The Department of Alcoholic Beverage control may, in its discretion, schedule a public hearing on the issues presented by any Petition for a declaratory decision, at which it may permit the introduction of evidence.

(f) The Department shall issue a ruling on the Petition in writing within not less than 80 days after the date of the filing of the Petition.

(g) The Department shall designate each of its rulings on Petitions for a declaratory decision as Precedent and index all such precedents, including any subsequent rulings thereon by the Alcoholic Beverage Control Appeals Board or any court, as precedent pursuant to Government Code Section 11425.60. The index and all rulings on Petitions for a declaratory ruling shall be published on the Department’s website.

Section 11465.90

The ruling issued by the Department shall constitute a “decision” within the meaning of Bus. & Prof. Code Section 23080. The Petitioner or any person who filed comments with the Department may appeal the ruling to the Alcoholic Beverage Control Appeals Board pursuant to Bus. & Prof. Code Sections 23080 to 23089.

The Key Concept – Create a body of decisional law - Precedent

The most important word in this proposal is “precedent.”

Precedents in the purest sense are examples of how the statutes and regulations are applied in actual cases. As precedents are developed they create a body of law that can be relied upon by legal practitioners, industry members and trade associations alike. This removes uncertainly and provides an avenue for a reasoned consideration of new and innovative proposals against a background of established examples that can be used to guide conduct.

Please note that under our proposal a petition could not be filed with the ABC after a violation has already occurred and an accusation or other proceeding initiated. That, as well as assuring that the ABC retains essential discretion to approve or disapprove proposals, assures the integrity of the ABC’s accusation process, and insures that the ABC's other powers are not compromised.

The ultimate result will be a body of published decisions that every industry member and service provider can rely upon in making important investment and business decisions, and a mechanism for seeking illumination in those situations where the answers are unclear. That would enable continued innovation and provide the kind of certainty that one of the most important industries in California deserves.

We received some great comments and questions regarding the recent (May 22, 2017) blog “Why the FDA is Inspecting Wineries.”

One of the most common questions was “does the FDA inspect breweries and distilleries? The answer is a resounding yes. If you are a brewery or a distillery, revisit the original post for more detail.

Breweries and Distilleries.

The bottom line is that the rules are the same for all alcoholic beverages. Most breweries and distilleries, like wineries, sell their products through general commerce and therefore, must register with the FDA and follow the same Good Manufacturing Practices. All domestic companies must register unless they are considered a “retail food establishment” or “qualified facility” and are exempted from registering as described below in more detail.

Breweries and distilleries, like wineries, are also exempt from Subpart C (Hazard Analysis and Risk-based Preventative Controls) and Subpart G (Supply-Chain Program) but like wineries, must comply with Subparts A and B (related to sanitary conditions and training of employees in personal hygiene) and Subpart F (recordkeeping).

Breweries and distilleries are also subject to FDA inspections and the best practice is to be aware and prepared. Therefore, the advice and brief checklists provided in the May 22nd blog apply equally to them.

The one difference for breweries and distilleries is the disposal of spent grains from the manufacturing process. In 2014 the FDA caused much consternation with its proposed rule that would require breweries and distilleries wishing to send the spent grain for animal feed to additionally comply with the hazard and risk analyses and a supply chain program under the Animal Food regulations. (This would be in addition to complying with the human food regulations with which all alcoholic manufacturers must comply).

The good news is that the FDA listened to the outcry against adding this additional regulatory burden and the current rule provides that processors already implementing human food safety requirements do not need to implement additional preventive controls when simply supplying a by-product (wet spent grains) for animal feed. Breweries and distilleries are expected to assure that there is no physical contamination of the spent grain before shipping. For example, contamination by placing trash or cleaning chemicals into the container holding the spent grain. General sanitary conditions apply to transporting the spent grains for animal feed.

It is important to note, however, that any processor who further “processes” the spent grain for use as animal food (for example, drying, pelleting, heat-treatment) must additionally comply with the Animal Food Good Manufacturing Practices which include developing hazard and risk-analyses and developing preventative controls.

The brewery or distillery may choose which path to take.

How does the FDA exemption for “Retail Food Establishments” apply to wineries, breweries and distilleries?

We had many questions about how the exemption (which is not exactly a model of clarity) works. The exemption as it applies to producers (such as wineries in the initial post but also including breweries and distilleries in this post) is very narrow.

The FDA exemption from the registration requirement is for producers that can demonstrate its primary purpose is to sell product directly to the consumer and that sells more than 51% of their product “out the front door” (“Retail Food Establishments”). So, the question is whether a producer’s business operations are such that it meets the definition of “Retail Food Establishment.”

First, even though the initial blog was written for wineries, because all alcoholic beverages are “food,” those breweries or distilleries that may qualify as a “retail food establishment” could possibly also fall under this narrow exception.

As part of the implementation of the Food Safety Modernization Act (“FSMA”), the FDA amended and expanded the definition of “Retail Food Establishment”. The official definition of a “retail food establishment” in the Code of Federal Regulations is:

“Retail food establishment means an establishment that sells food products directly to consumers as its primary function. The term “retail food establishment” includes facilities that manufacture, process, pack, or hold food if the establishment's primary function is to sell from that establishment food, including food that it manufactures, processes, packs, or holds, directly to consumers. A retail food establishment's primary function is to sell food directly to consumers if the annual monetary value of sales of food products directly to consumers exceeds the annual monetary value of sales of food products to all other buyers. The term “consumers” does not include businesses. A “retail food establishment” includes grocery stores, convenience stores, and vending machine locations. A “retail food establishment” also includes certain farm-operated businesses selling food directly to consumers as their primary function.” (Highlighting and emphasis added.)

Therefore, any winery, brewery, distillery that can qualify as a “retail food establishment” demonstrating that its primary purpose is to sell its product directly to consumers will be exempted from the FDA registration requirement.

This means that the annual monetary value of sales of food products directly to consumers must exceed the annual monetary value of sales of food products to all other buyers (at least 51% direct to consumer sales). The term “consumers” does not include businesses unless (as discussed below) you operate within in a small local area in the same state (truly local businesses) and can be characterized a “Qualified Facility.”

The FDA determined that all “direct-to-consumer sales” (DTC) including Internet and mail order sales are included as part of the calculation to determine whether the primary purpose is to sell directly to consumers. The FDA stated that there is no requirement that DTC must be a face-to-face sale. Therefore, sales proceeds from Internet and mail catalog DTC sales may be used in the calculation to determine that the primary function is to sell directly to consumers. Sales made at farmers’ markets, consumer events, directly from tasting rooms and the like are also considered in the calculation.

Further, while the earlier blog discussed the size requirement needed to qualify as a “retail food establishment” (less than 11 employees) in adopting the final rule, the FDA did away with any employee size requirement to qualify for the retail food establishment exemption stating: “Even if some establishments that use mail, catalog, and Internet orders in determining their primary function are larger establishments and can reach consumers on a national level, we do not believe that is inconsistent with section 102(c) of FSMA, which does not specify that FDA’s amendment to the retail food establishment definition only pertains to establishments of a specific size.”

The principal criteria the FDA will use in determining if an establishment qualifies as a “retail food establishment” is whether its primary purpose is to sell its product direct-to-consumer. The FDA’s basic test is whether an establishment’s annual monetary value of sales of food products directly to consumers exceeds the annual monetary value of sales of food products directly to all other buyers, i.e., more than 51% of its sales are direct-to-consumer.

This appears to be another benefit of the alcoholic beverage industry move to DTC (practically and legislatively) where possible.

“Qualified Facilities”.

We did receive a comment asking us to explain what “Qualified Facilities” means. This very narrow exemption from the FDA registration requirement applies only to very small businesses that principally operate locally. Very briefly, a “qualified facility” status applies to those facilities that sell product to consumers, restaurants or “retail food establishments” located in the same state and not located further than 275 miles from the qualified facility. There are also monetary limits on the value of product sold during the prior 3-year period (less than $500,000 adjusted for inflation). Attestations and documentation are required. Should anyone desire more information on this, please call the FDA, your trade association representative, or your attorney.

Recall Procedures.

We received some inquiries asking whether a winery (or brewery/distillery) needs to develop a “Recall Plan” in the case there is need for the recall of the product. The first point to make is that the TTB has primary control over any recalls for alcoholic beverages and does not require a company under its jurisdiction to prepare a Recall Plan. While it might be a good idea and a good business practice to have a plan of action regarding what to do if you need to recall a product from the market, know that it is not required by the TTB and the FDA cannot impose that requirement (at least not yet!).

You should feel comfortable if the FDA inspector asks about your recall plan and you don’t have one (although we do encourage adoption of a recall plan as a basic best practice).

Conclusion – Be Compliant!

We encourage our clients and friends to approach FDA compliance in the same orderly way that they approach all compliance topics. There should be an officer or manager of the facility charged with the principal responsibility of compliance with operating regulations – whether labor and employee related, production facility related (use permits and equipment safety under OSHA for example), alcohol production and sales related (ABC, TTB and local state OSS permits) or food product related (FDA and local food service requirements for example).

The smaller the enterprise of course the more the burden falls on fewer people. That is also why we encourage checklists and spending quality time with your industry trade associations, who have a vested interest in making sure that their members know the rules.

This is a complex issue with many moving parts. We encourage you to contact your trade association representative or your attorney with your questions before you get that call informing you that the FDA inspector is on the way.

The FDA is on the march and busy auditing food processors under their jurisdiction. While this leads to angst for the business caught up in the FDA bureaucracy, it is a fact of life for those who handle food and beverages, which are substances that are ingested by the public. No one argues against food and beverage safety and it’s one of the reasons we have the most respected alcoholic beverage industry in the world. Our products are safe and the world knows it. The FDA is one reason why.

The purpose of this post is to give some comfort to those who are FDA compliant (or are small enough to be outside of the ambit of the FDA’s inspection power but who comply anyway) and to give some guidance to those who may have missed the message until now.

At the end of the post are important checklists. We urge you to pay close attention to the acronyms, and to the guidelines. There will be a test, but hopefully not one that starts with a knock on the winery’s door.

Federal Law, Wineries and the Very Narrow Small Winery Exemption

Under Federal law, wineries are “food manufacturing plants.” As a food manufacturing plant, every winery must:

(1) Be registered with the FDA under the Bioterrorism Act (BTA),

(2) Re-register every two years, and

(3) Keep records of every source of food received (for example, grapes) and the destination of food (in this case, wine) shipped.

Wineries with fewer than 11 employees and that sell more than 50% of their product out the front door (direct to consumer is how we interpret this) are exempted from this regulation.

Because the fermentation process kills pathogens and wine is low pH, wineries are categorized to be “low risk” food manufacturing facilities. Thus, inspections of wineries have been a low priority for the FDA. Most wineries have never even had an FDA inspection.

That is now changing because of the FSMA.

The FSMA Priorities

The Food Safety Modernization Act (“FSMA”) was signed into law in January 2011, and made sweeping changes to food safety laws. The FSMA focus changed food safety regulations from responding to food contamination to preventing food contamination. Under the new FSMA law, even all “low risk” facilities (such as wineries) must be inspected within seven years of the Act becoming law, which means the FDA has now stepped up winery inspections for 2017.

The Good Manufacturing Practices (“GMP”) and the Sub-parts Applicable to Wineries

The FSMA also updated the Good Manufacturing Practices (“GMP”) regulations. The FDA notes that wineries are exempted from Subpart C (Hazard Analysis and Risk-based Preventative Controls) and Subpart G (Supply-Chain Program) both of which require a written and documented food safety plan at the facility. Wineries, however, must specifically comply with Subpart B (education and training of employees in food hygiene and safety) and Subpart F (record-keeping).

FDA Inspections – No Prior Notice Required and What to Prepare for

The FDA is not required to, and generally does not give prior notification of an inspection. The FDA also partners with state agencies to help get the inspections done; so, for example, in California, the inspection could be made by the California Department of Food and Agriculture (“CDFA”) on the FDA’s behalf. Other states also have counterpart agencies with the same functions as the CDFA. There can be no doubt that the FDA has geared up for inspecting the wineries, thus, wineries should be prepared.

The best way for a winery to prepare is to do an internal inspection now, ahead of time, on all compliance requirements. Here is our suggested checklist:

1. The winery should designate one or two persons who can be available on-site during an inspection without prior notice.

2. The winery should be sure all necessary documents are up-to-date and readily available. This includes the Bioterrorism reporting on food ingredients received and used in each wine shipped by the winery (see BTA checklist below). Copies of approved COLAs should also be readily available.

3. Wineries should be aware that one important change under the FSMA for wineries is that education and training in food hygiene and safety is now required for all employees. The winery must maintain records of the training for two years. Each employee must be trained as necessary to conduct the winery processes.

4. It is best to have a written flow chart of the winery processes demonstrating sanitation in the stages of winemaking. The flow chart should also include monitoring with adequate frequency.

5. One area of concern raised by the FDA inspections has been outdoor receiving of product, washing and fermentation tanks. Wineries should document efforts to assure these processes and the area are kept as sanitary as possible (the FDA has specifically raised concerns regarding birds, dogs, cats in the area which could contaminate the grapes/juice).

6. Everything in the winery should be clearly labeled, even sanitizer spray bottles, etc.

7. The FDA is particularly concerned that bottling rooms/areas be kept clean and sanitized to avoid contamination during bottling.

8. The Code of Federal Regulations (21 CFR 110.35) sets forth very specific sanitation issues with which wineries should be sure to comply. Briefly, the only toxic materials that may be used or stored in a plant where food is processed or exposed include:

(a) Those required to maintain clean and sanitary conditions;

(b) Those necessary for use in laboratory testing procedures;

(c) Those necessary for plant and equipment maintenance and operation;

(d) Those necessary for use in the plant’s operations.

(e) Toxic cleaning compounds, sanitizing agents, and pesticide chemicals must be identified, held, and stored in a manner that protects against contamination of food, food-contact surfaces, or food-packaging materials.

(f) Pest control, and pets. No pests shall be allowed in any area of a food plant. Effective measures must be taken to exclude pests from the processing areas and to protect against the contamination of food on the premises by pests. The use of insecticides or rodenticides is permitted only under precautions and restrictions that will protect against the contamination of food, food-contact surfaces, and food-packaging materials. With respect to Pets, the CFR states that guard or guide dogs may be allowed in some areas of a plant if the presence of the dogs is unlikely to result in contamination of food, food-contact surfaces, or food-packaging materials.

9. Make sure sufficient water, hot water and water pressure is available for sanitizing and that all drainage and sewage facilities are in working order.

10. The FDA also requires adequate toilet and hand-washing facilities be available for employees with proper signage requiring hand-washing.

Remember the Bio-terrorism Report requirement? We have a checklist for that also

The winery must also keep track of each ingredient used in each wine that is produced, bottled and shipped by the winery.

The FDA has not prescribed specific penalties, but simply reminds food facility operators and importers that non-compliance with registration, prior notice, or recordkeeping requirements (once they are mandatory) are prohibited acts, and violators are subject to civil or criminal court action. Foods imported from non-registered facilities or without proper prior notice are subject to being detained at the port of entry.

Conclusion: Preventative Maintenance Works

If your eyes aren’t fatigued by reading these checklists, then you haven’t been paying attention! Because these regulations apply to almost all wineries, being prepared is much better than being audited, found wanting, perhaps fined and faced with the possibility of future audits.

This blog post concerns a very significant piece of legislation (Senate Bill 378) currently being considered by the California Legislature. For over 60 years, licensees have had the right to challenge ABC license suspensions before they go into effect; SB 378 takes away that right. SB 378 removes existing and basic due process rights of all types of alcohol beverage licensees to challenge potentially arbitrary and capricious ABC action in a neutral forum – actions that are often undertaken at the behest of local authorities or neighbors with an axe to grind against the licensee involved.

The tension between local authorities, neighbors and licensed establishments has never been higher and can be seen in licensing and enforcement decisions involving wineries, distilleries, breweries, retail stores and nightclubs throughout the state. If the basic rules of engagement in place since the 1955 adoption of the ABC Act are going to be significantly changed then at the very least the licensees of this state should be adequately informed of the reasons for basically doing away with the Appeals Board by stripping away the Board’s power to do pre-penalty review.

Historical Background: the ABC Act and the Appeals Board

The ABC Act was adopted in 1955 to create a clear interface between the power of the state to regulate alcohol and the rights of California alcohol licensees to operate their businesses free of discriminatory, arbitrary and unfair enforcement. This followed a period where establishments (particularly gay bars in San Francisco in the infamous 1950’s era “Black Cat” cases) had been singled out by law enforcement for special undercover State Board of Equalization (then the alcohol licensing and enforcement authority) investigations aimed at wiping out the perceived “immorality” that had started to blossom in the San Francisco entertainment community, and in other places throughout the state.

The history of alcohol enforcement up until that time had been marked by the indiscriminate, and often arbitrary, use of the state police power to punish those whose activities were deemed “immoral,” a phrase that covered a lot of activities, including personal sexual preferences. The result after reform was Article XX, Section 22 of the California State Constitution. This article created an independent agency (the Department of Alcoholic Beverage Control or “ABC”), which itself was to be checked by an oversight board called the “Alcoholic Beverage Control Appeals Board,” which was made up of three members appointed by the Governor, who serve at the Governor’s pleasure. The purpose of the Appeals Board was to establish limited review as a matter of right of ABC decisions in cases assessing punishment where the decision was alleged to be unlawful, unfair, arbitrary or capricious. The following constitutional standard now applies to Appeals Board review:

“Review by the board of a decision of the department shall be limited to the questions whether the department has proceeded without or in excess of its jurisdiction, whether the department has proceeded in the manner required by law, whether the decision is supported by the findings, and whether the findings are supported by substantial evidence in the light of the whole record. In appeals where the board finds that there is relevant evidence which, in the exercise of reasonable diligence, could not have been produced or which was improperly excluded at the hearing before the department it may enter an order remanding the matter to the department for reconsideration in the light of such evidence. In all other appeals the board shall enter an order either affirming or reversing the decision of the department.” Article XX, Section 22, California Constitution.

This articulation of the ABC Appeals Board review power is as basic a description of “due process” rights as one can imagine. Who can argue with requiring findings, or substantial evidence, or prohibiting punishment based on evidence improperly excluded? Without this level of available review the ABC could proceed in an arbitrary and capricious manner, could punish licensees based upon the whim of whoever was in power at the time or, even worse, based on false allegations from disgruntled local neighbors and authorities. Testing allegations of misconduct before punishment is imposed in a fairly conducted judicial hearing is a fundamental right.

The system has worked well for the last 60+ years, but not without occasional tension between the ABC and the Appeals Board. Even though the ABC probably prevails in 95%+ of the appeals that are filed, the ABC still does not like being overruled by the Appeals Board. In recent years, the ABC has made clear on many occasions its displeasure with Appeals Board decisions requiring that the ABC observe basic legal rights (including its own regulations). In fact, as explained below, the ABC currently takes the position that the Appeals Board decisions cannot be relied upon by licensees seeking guidance as to what is and is not lawful in an increasingly complex world. That itself is a serious issue.

What Does Senate Bill 378 Do?

This brings us to State Senator Anthony Portantino’s Senate Bill 378. This bill threatens the livelihoods and due process rights of alcoholic beverage licensees throughout California. Senate Bill 378:

● Provides that the “temporary” restraining orders can last up to 22 days (or even longer) before a hearing is held by the Department (which itself has just issued the order) on whether to expand that order to a preliminary injunction, which, in turn, would last until a hearing on the merits, which is scheduled at the discretion of the ABC (which in our experience, usually takes three to four months to calendar);

● Strips the Appeals Board of its constitutionally-created power to review “temporary” restraining orders of the ABC and, instead, relegates licensees to petitioning a Court of Appeal to issue a discretionary writ of review;

● Allows “temporary” restraining orders to be issued at the behest of the Department or a city attorney; and

● Allows the ABC to issue the “temporary” restraining order on the strength of an affidavit signed under oath by a police chief, county sheriff or mayor/city manager.

What Could Go Wrong?

The bill would make possible the following scenario: A city official reacts to a local resident who complains about an establishment by filing an affidavit accusing the licensee of violating the ABC laws. The Department issues a “temporary” restraining order suspending the license, and the first opportunity that the license may challenge that order does not occur for 22 days, during which its business is shut down. The Department can then issue a preliminary injunction continuing the shut-down until a hearing on the merits, which will be scheduled at the Department’s discretion—could be a month, could be a year. Even if the charges are ultimately proven to be false at the hearing on the merits, few licensed businesses are likely to survive the prolonged shut-down. A licensee’s only avenue of redress is to seek review from a Court of Appeal, which may or may not grant the petition, and certainly not until the damage from the shut-down has already happened.

Good luck to the investors in that business.

Even aside from the substantial question of whether Senate Bill 378 violates the California Constitution, it would make dangerous and unnecessary changes to California law for the following reasons:

1. The ABC already has the power to act quickly to forestall violations by filing accusations and scheduling prompt hearings. There is no need to empower it unilaterally to issue suspension orders on the say-so of city officials operating in a political arena. There are many cases on the books in which the Appeals Board or the courts have rejected the allegations of complaining local officials after they had been tested under oath in a contested hearing, or discovered a lack of evidence to prove a local resident or ex-employee’s allegation.

2. As noted above, the Appeals Board has a constitutionally-created role of appellate jurisdiction over actions of the Department. The drafters of the California Constitution wisely decided that some direct oversight of the enormous discretion vested in the ABC was necessary. That judgment has been vindicated by many years of practice. The advantages of Appeals Board review are that appeals can be taken as a right, the process takes far less time than a typical appeal to the busy Courts of Appeal and the members of the Appeals Board are well-versed in industry practice and ABC law.

The Courts of Appeal are already busy and often reject appeals from the ABC Appeals Board as it is. Senate Bill 378 would require licensees whose licenses have been suspended by a “temporary” order to seek review in a Court of Appeal, with the Court having the discretion to grant or deny such review. The Courts of Appeal have general appellate jurisdiction over all civil and criminal appeals, and their dockets are crowded.

How likely are the Courts to put aside appeals from murder convictions and multi-million dollar civil cases to give expedited treatment to the “temporary” suspension of an ABC license, even though the consequences to the licensee’s livelihood may be devastating? To ask that question is to answer it.

What, Then, Is the Motivation Behind This Bill?

SB 378 appears to be a continuation of the ABC’s ongoing effort to free itself from appellate oversight by the Appeals Board. Last year, the ABC took the position that decisions of the Appeals Board are not “precedent” and that referring to prior decisions is illegal and unethical. The Appeals Board rejected that fatuous argument in a lengthy opinion, noting that:

[T]he only potential beneficiary in a world where prior decisions of the Board must be ignored and the Department has issued no precedential decisions itself, is the Department…. ‘If no one can cite or rely upon decisions of the Board, the Department is free to disregard them and create its own “shadow world” of unrestrained discretion—precisely what the Legislature sought to eliminate’….[1]

Senate Bill 378 appears to be yet another attempt by the ABC to achieve unrestrained and effectively unreviewable discretion. This attempt is as unmeritorious and dangerous as the prior one.

How significant is this? As the first section of the ABC Act provides:

Section 23001 . . . It is hereby declared that the subject matter of this division involves in the highest degree the economic, social, and moral well-being and the safety of the State and of all its people. All provisions of this division shall be liberally construed for the accomplishment of these purposes.

You can’t get much more important than that.

Licensees should not have their livelihoods put at risk on the unchallenged say-so of municipal officials usually operating based on local political beefs, without any means of redress for at least 22 days and, more likely, much longer, and without any guarantee of the timely appellate review that has been a hallmark of ABC practice for many years. Senate Bill 378 would put the entire alcoholic beverage industry at the mercy of municipal officials, angry neighbors and the unrestrained discretion of the ABC. Licensees and their trade associations should make every effort to ensure that it does not become law.

What Can You Do about This?

Call or write State Senator Anthony Portantino and share your view on the merits (or lack thereof) of SB 378 and then call your trade association leaders and let them know your views. Here’s a likely incomplete list of some of the alcohol industry trade groups we have supported in the past to get you started.

[1]BMGV, LLC v. Dept. of Alcoholic Bev. Control (Appeals Board 11/17/16) AB-9568, p. 25. The ABC, represented by the Attorney General, has petitioned for a writ of review of portions of the Appeals Board’s decision, excluding the portion addressing the issue of the Board’s prior decisions as precedent.

What wineries should know about beverage law, rules and investigations

By:John Hinman, Rebecca Stamey-White and Jeremy Siegel

As long time supporters of Wine Business Monthly, we are always more than happy to contribute when given the opportunity. Wine Business Monthly is the wine industry’s leading publication for wineries and vineyards, and they asked us to provide their readers with an overview of the California Department of Alcohol Beverage Control’s current enforcement trends, and what we see in the near future.

The article, which can be found in the April issue of the magazine, touches on some of the bigger cases we have defended over the past few years, the lessons learned from these cases, and areas where we have been able to effectively negotiate with the ABC to not only avoid costly hearings for our clients but to further their marketing and sales agendas through legally compliant programs. These areas include social media marketing and advertising, indirect ownership and other interests between retailers and suppliers, as well as the important details and restrictions that flow from events such as winemaker’s dinners. Looking forward toward this year’s ABC enforcement priorities, we also commented on a recent uptick in ABC enforcement with regards to credit laws, we touched on the growing prominence of unlicensed third parties in the wine space and we noted that the ABC’s trade enforcement unit is enlarging and becoming more active. You may never know when that knowledgeable new consumer at your event is really an ABC Agent testing compliance.

We hope that this article highlights the value of understanding the laws and policies that govern activities in our highly regulated space, as well as the value of consulting effective and experienced alcohol counsel when in doubt. Grappling with the alcohol laws is not for the faint of heart, but with strong compliance programs, direct confrontations with the ABC (in California and throughout the US) should be few and far between.

A new publication has emerged on the industry scene, and it promises to be one of the most useful resources we have seen in a long time – Spirited Magazine (the website for the new magazine is www.spiritedbiz.com. There is another site for an old publication called spirited magazine. Don’t confuse the two). Spirited crosses beverage types (wine, beer, spirits, cider and mead), looks at issues common to all licensed producers, wholesalers and retailers of all beverages and tries to make sense of it all. We now live in a world where the large and small winery, brewery and distiller are all competing, and are all facing the same marketing and regulatory challenges.

Many of our clients in each space are involved with other alcoholic beverage products and, as a result, are now experiencing first-hand the fundamentally inconsistent regulatory treatment of the different products. Something legal for wine is unlawful for beer, something legal for spirits is unlawful for wine, and so forth. It creates a very frustrating dynamic not only for the industry member but for the regulator who, let’s face it, has a very difficult job. To add to the chaos, every state is a regulatory island unto itself. That means national and regional marketing and other programs have to be carefully vetted against multiple different laws and regulations, and narrowly tailored to comply with the strictest.

The challenge with cross-involvement is that while most of the regulatory rules of the road (including licensing, distribution, marketing, event privileges and consumer sale privileges) are different for each beverage type, the penalties for violation of the historic “tied-house” laws, which apply to all beverage types, are almost identical and are often draconian. We talked to the Spirited Magazine founders about this and the response from us will be the “Corruption Chronicles” – a series of tales of actual violations (and the lessons to be learned from each) published on an occasional basis in Spirited, and republished on Booze Rules for the edification of our friends and colleagues.

Volume One can be found here. Volume Two will be in the next edition of Spirited.

The point of the Chronicles is to illustrate the types of actual violations that regulators in California and around the country are pursuing. Bribery of retail accounts, smuggling of alcohol from one jurisdiction to another to evade taxes, suppliers managing retail account liquor departments and choosing what products the retailer will buy and in the process shutting out their competition; these are all examples of corrupt activities that impact the marketplace, threaten fair competition and justify vigorous regulatory responses.

But, and this is the big BUT, where is the line between clean competition and corrupt activity? When does an innocent act or agreement cross the line? Is intent required (sometimes yes, sometimes no). Does the “everyone else is doing it” defense ever work? Those are the questions the Corruption Chronicles will explore. Welcome to the world of Hinman & Carmichael LLP!

We’ve been hearing rumblings about possible legislation moving forward in Sacramento that will give the California Department of Alcoholic Beverage Control (“ABC”) more oversight over companies that deliver alcohol products here in California. Last week, we got our first look at Senate Bill 254, which had been a mere placeholder since its introduction on February 7 by Senator Portantino. The proposed bill would add Business and Professions Code Section 25513 to the Tied-House Restrictions of the California ABC Act (as well as similar sections in the Code pertaining to tobacco, not covered by this blog post), which would for the first time define a “delivery network company,” and would prohibit companies that deliver alcoholic beverages (and/or tobacco products) from delivering these regulated products until receiving ABC approval of their delivery systems and abiding by certain requirements intended to curb access by minors.

Under the bill, a “delivery network company,” defined as an “an organization… that provides prearranged delivery as an act of enrichment, financial or otherwise, of goods or services using an online-enabled application or platform to connect consumers with goods or service [sic] and to have those goods or services delivered directly to the consumer by an individual compensated by the organization,” would be required to submit its “system” to the ABC for review and approval. That system must also include the following elements:

A means of verifying that the recipient of alcoholic beverages is 21 years of age or over;

Person-to-person delivery;

Delivery drivers that are 21 years of age or over;

The ability for consumers to suspend delivery for any period of time to their designated primary delivery location, and

No delivery to college or university grounds.

As currently drafted, the bill covers unlicensed service providers (Third Party Providers or “TTPs”) as well as current ABC licensees with privileges to sell alcohol directly to consumers that also provide delivery services to its customers. We think it unlikely that the author’s intention was to include all retail deliveries of alcohol (a subject already covered by existing ABC regulations), but unless delivery network company is more narrowly defined, all licensees with off-sale retail privileges that currently deliver alcoholic beverages to consumers should be watching this bill.

While this is just the first draft of legislation that so far focuses on the ABC’s core constitutional priority of preventing sales to minors, a worthy and important goal, many questions regarding the regulation of delivery of alcohol still remain unanswered by this bill, including many we face in our daily practice:

What types of verification will be required and what kinds of records will the delivery network company need to collect? Signature capture, as required by UPS, Fedex and other shipping providers? ID scanning?

What does person-to-person delivery mean? Is it a prohibition against deliveries without an adult present to receive the delivery or something else? What needs to happen to the product or the transaction if no one is there to receive the order? How must returns be handled?

What does it mean for the consumer to be able to suspend delivery to its primary delivery location and how does that advance the ABC’s interests in preventing sales to minors and encouraging responsible delivery of alcoholic beverages?

Will the ABC also want to see protocols for preventing sales to obviously intoxicated recipients?

Specifically as to TTPs, will the ABC also be reviewing flow of funds, percentage fees, tied-house implications and other hot button issues not covered by this legislation, or will they be restricted to reviewing only the portions of the system that prevent sales to minors?

Up until now, there have been no laws or regulations that specifically cover TPPs, which do not have an ABC license category. The only substantive guidance for TPP businesses working with alcohol licensees has been ABC regulations concerning retail delivery and the industry advisories issued by the ABC in 2009 and 2011 (the “ABC Advisories”). These ABC Advisories were originally issued to provide guidance for licensees seeking to leverage the consumer acquisition reach of the various internet and app sales and marketing platforms (Amazon, Groupon, LivingSocial, Lot18 and many others) that did not want to hold alcohol beverage licenses, but instead focused on advertising, customer acquisition, and online tools to facilitate sales and fulfillment of products or experiences including alcoholic beverages. The ABC Advisories focused on the level of control and responsibility a licensee must maintain when utilizing a TPP as its agent, avoiding indirect unlawful gifts and retail inducements, flow of funds requirements, and avoiding engaging a TPP to conduct activities or taking margins that would otherwise require an independent alcohol license.

While helpful guidance (for industry members, TPPs, alcohol lawyers and the many other states that have used the ABC Advisories as a model for their own TPP guidelines and laws), the ABC Advisories are not law, and the ABC has thus far declined to pre-approve TPP platforms, including the now ubiquitous delivery systems that are the subject of this bill and make up a large part of our firm’s TPP practice. We’ve recently seen some uptick in ABC enforcement in this space that has provided some additional guidance on the ABC’s current stance on TPPs, but many TPPs have been operating in a legal gray area, dependent on legal memoranda from law firms focusing on alcohol beverage regulation like our own in order to ease investor concerns about legal compliance.

We encourage any and all licensees and TPPs involved with alcohol delivery to get involved in the legislative process now to make their voices heard so that this bill can provide appropriate guidance to the ABC in the responsible and appropriate regulation of delivery network companies. And if this bill becomes law, it’s a good time for businesses involved in this space to call your legal counsel to ensure you have the protocols in place to obtain the ABC’s approval.

A note from John Hinman: The following is a guest blog post by Jeff Carroll. Formerly VP of Compliance at ShipCompliant and a wine industry veteran, Jeff is an astute observer of wine industry trends and continues to stay on top of industry developments while blogging at Obsequium. On breaks from chasing two young kids around, you can find him on the slopes of Colorado or on the tennis court.

The Michigan Timeline: a great case study of how DtC marketing and sales are evolving in a key state:

2005: Wineries prevail at the Supreme Court in Granholm v Heald in their case against the states of Michigan and New York, which had prohibited direct shipping.

2005: HB 4959 is signed into law, allowing out-of-state wineries to ship to consumers.

Over the last several years, direct-to-consumer (DtC) wine shipping grew at a blistering pace. According to the recent report issued by ShipCompliant and Wines & Vines, the value of wine shipped by US wineries reached $2.33 billion, representing 75% growth since 2011. No longer a niche channel for high-end wineries, DtC shipping is moving towards maturity.

So, now that 93% of the US population has legal access to direct shipments by wineries, what should we expect in the next phase for the DtC channel?

The Michigan experience is a roadmap. The recent flurry of legislative activity that has resulted in a third important lawsuit against the State of Michigan related to DtC shipping legislation provides both clarity and a better understanding of the motivations of each of the tiers of the wine industry in every state.

Wineries are mostly in clean-up mode

With the passing of DtC legislation in Massachusetts and Pennsylvania over the last few years, wineries can now legally ship wines ordered off-site to 43 states (plus Washington D.C.) representing 93% of the US population. Only Alabama, Delaware, Kentucky, Mississippi, Oklahoma, Rhode Island, and Utah prohibit off-site shipments. Although these states will eventually pass DtC laws (the pressure is on from the winery associations, as well as from consumers), it may take another five or ten years to fully play out in the more conservative legislatures.

Meanwhile, winery advocates are working to tweak some of the more problematic provisions in the states that allow DtC shipments. Michigan’s new legislation (SB 1088) is one such example of a "clean-up" initiative. Going back to the 2005 DtC legislation, the original Michigan statute required wineries to print their direct shipping license number as well as the order number on the shipping label. The MLCC also required the product registration number to appear on invoices. SB 1088 removes the unique requirements for the outside of the box, and also clarifies that registration numbers are required but need not appear on the label or on invoices. Both will greatly simplify compliance for licensees. Cleaning up mostly useless requirements is a positive.

Retailers need a Granholm moment

While wineries have seen tremendous success with DtC legislation since the watershed Granholm ruling, wine retailers have actually moved backwards and today can legally ship to only 14 states, representing only 24% of the US population. This lack of traction and ineffectiveness can be attributed to tremendous pushback and legislative clout from both wine wholesaler and local package store associations. The issue for both is competition.

In Michigan, for example, while the Michigan Beer & Wine Wholesalers Association (MB&WWA) maintains neutrality when it comes to DtC shipping by wineries, the group opposes DtC shipping by out-of-state retailers. This is reflected in SB 1088, which also creates a new license to allow in-state retailers to ship to consumers but prohibits out-of-state retailers from doing the same. According to Spencer Nevins, President of MB&WWA, there are “only a limited number of wineries in the United States. In contrast, there are hundreds of thousands of wine retailers in the United States."

The prohibition against out-of-state retailers creates at least three challenges for Michigan consumers. First, foreign wines can only be purchased through the inventory available at Michigan retailers. National wine clubs and alternative distribution models like Wine.com will also have a hard time reaching Michigan consumers now without owning a bricks and mortar retailer in Michigan. Finally, out-of-state shipments will be limited to wines from a single winery at a time (no mixed shipments).

Retailers jumped on the discriminatory nature of SB 1088 and filed suit against the Governor, Attorney General, and Chairman of the MLCC in US District Court. Similar to lawsuits filed in Illinois and Missouri, an out-of-state retailer plaintiff seeks a judgement on Commerce Clause and Granholm grounds. Lebamoff Enterprises Inc. v Snyder is the third major court case brought against Michigan regarding the direct shipment of wine following Granholm and Siesta Village Market.

The National Association of Wine Retailers (NAWR) would like nothing more than to replicate the momentum and success that wineries had following the Granholm ruling of 2005 and are hopeful that the three current suits in Michigan, Illinois and Missouri will move them closer to the Supreme Court and a possible landmark ruling to clarify the scope of Granholm. “The Lebamoff case is identical to the Siesta Village Market case Michigan lost in 2008. Once again, wine wholesalers have put their own interests ahead of those of Michigan consumers with this facially discriminatory bill,” said Tom Wark, Executive Director of NAWR.

Wholesalers want more enforcement (plus a piece of the pie)

Prior to 2015, wholesaler groups primarily opposed DtC shipping in general without offering much in terms of alternatives. Now, as evidenced by Michigan, they are mostly conceding the battle to wineries but remain adamantly opposed to out-of-state retailer shipping.

But does the 2015 investment in Drizly by the Wine & Spirits Wholesalers of America (WSWA) signal a shift in philosophy?

Allowing (and encouraging) in-state retailers to ship to consumers appears to be part of a new wholesaler strategy to participate in the growing and important DtC channel. Spencer Nevins expanded on the motivation behind the SB 1088 legislation when he cited a "desire to expand access to wines for Michigan consumers in a manner that can be realistically and effectively regulated by the MLCC and by a desire to embrace the recent development of third-party facilitators such as Liquor Limo and Drizly.” SB 1088 also creates a “Third Party Facilitator” license to enable services that create third party apps and websites to advertise wines available, but only through in-state retailers.

At the same time, wholesalers are working with state liquor control agencies in multiple states, including Michigan and Illinois, to seek better enforcement of DtC laws and regulations. In Michigan, the MB&WWA issued an Request for Proposal (RFP) for a private investigator to “research the scope of direct shipping of alcoholic beverages in Michigan” through controlled buys with law enforcement. The RFP identified several companies to target specifically, including the Wall St. Journal Wine Club and Amazon Wine. The resulting report, prepared by The Hill Group, found very low compliance rates, although the selection methodology for the 18 vendors used for controlled buys in the report is fuzzy.

A central component of this effort to crack down on illegal shipments is to adopt new bills like SB 1088 in Michigan and HF 791 in Minnesota that create licenses for common carriers (FedEx and UPS) and requires the carriers to submit detailed periodic reports of all shipments (what, from who, to who, etc.) containing alcohol coming into the state. While this allows liquor control agencies to better monitor, quantify, and enforce tax payments for DtC shipments, it also creates a means to identify shipments from industry members that are legally barred from obtaining permits and paying state taxes.

New battle lines are drawn

We are in a new era of direct wine shipping where laws allow consumers in most states to purchase wines from domestic wineries but not from importers or out-of-state retailers. At the same time, agencies, who now have the tools to do more active monitoring, continue to step up enforcement. With the addition of laws such as SB 2989 in Illinois, the penalties for failure to comply with the requirements include a felony and potential jail time; high stakes indeed. Additionally, the new carrier reporting laws will force FedEx and UPS to create much stricter controls for wine shipments. In turn, wine businesses operating in the “gray” areas of the law will be exposed while wineries and in-state retailers that are legally able to operate compliantly will benefit.

Retailers are gearing for a fight while wholesalers dig in and begin to embrace the DtC trend. The three retailer shipping cases will either provide a boost for retailers or will affirm the status quo. In order for significant change to come about, consumers and rare wine collectors will have to become a significant part of the conversation. Retailers are hopeful they'll demand a broader selection of imported wines, mixed shipments, and innovative business models.

We’ll be watching these trends closely over the next few years, and as the industry turns this interesting corner we see in Michigan the proverbial canary in the coal mine.

This edition of Booze Rules is published in conjunction with the launch of our new video web series, the Booze Bulletin. This post on credit laws digs into the specifics of some of the issues discussed in our video Booze Bulletin.

The important news is that the California ABC, with an invigorated trade enforcement unit, is actively enforcing the California 30-day credit law. Accusations charging credit law violations were filed in the fourth quarter of 2016.

A violation of the 30 day rule (or shorter period in many states) is a federal and state crime for the provider of credit (the supplier) and a state crime for the receiver of credit (the retailer).

The CA state level penalties for failure to comply typically include a license suspension or a $10,000 fine for the supplier (with escalating fines for successive violations), and license suspensions or a $3,000 fine for the retailer for a first violation, with escalating fines for successive violations. The federal penalties for the supplier are just as serious but the fine level may be far greater depending on the assessment of culpability by the TTB.

Intentional violations are treated much more seriously than negligent violations by both agencies.

The Reason for the Credit Laws

Providing credit in excess of the permitted period is considered to be a “thing of value” and the prohibition on excessive credit goes back to the dawn of trade practice enforcement following the repeal of Prohibition.

The regulatory concern with the provision of credit from alcohol suppliers to alcohol retailers has it genesis in the pre-prohibition American saloon. In the early part of the last century brewers and distillers used credit and consignment sale techniques to induce saloon owners to carry their brands of beer and spirits over competing brands. Preventing abuse of credit was a core concern of alcohol regulators from the early 1930’s onward because the technique had been so widely used by pre-prohibition distillers and brewers.

By offering long credit terms the suppliers locked in the retailers and increased consumer consumption of their specific alcohol brands to intemperate levels. This theory of intemperate consumption underlies almost all of the tied house laws as they were enacted in the original Federal Alcohol Administration Act at the time of Repeal.

Over the intervening years, and even today, restrictions on credit have been adopted in some form in every state and are codified in the regulations implementing the Federal Alcohol Administration Act.

State and Federal Law

Federal law, applicable throughout the US, provides for a maximum of 30 days credit from a supplier to a retailer. Federal law, however, only governs suppliers. (See 27 CFR 6.65 to 6.67)

Every state has regulated credit between suppliers and retailers, most mirroring the federal law, but some states prohibit credit altogether. There are many cash states where no credit at all is permitted and all purchases must be on a COD or CBD basis (certainly a vendor’s dream – legally required in-cash purchases).

In California the legislature (in 1963) enacted complex (and often difficult to decipher) credit restrictions intended to interpret and enforce the California 30-day credit law. The calculations surrounding the 30-day credit law are found in the ABC Act at Business and Professions Section 25509.

Excerpts from Business and Professions Code § 25509. “Additional charge against retailer not making payment”

(a) A [supplier] who sold and delivered beer, wine, or distilled spirits to a retailer and who did not receive payment for such beer, wine, or distilled spirits by the expiration of the 42nd day from date of delivery shall charge the retailer 1 percent of the unpaid balance for such beer, wine, and distilled spirits on the 43rd day from date of delivery and an additional 1 percent for each 30 days thereafter. . .

(b) A [supplier] who sold and delivered beer, wine, or distilled spirits to a retailer and who did not receive payment in full by the expiration of the 30th day from date of delivery or who has not received payment of the 1 percent charge at the expiration of the 30th day from the day the charge became due shall thereafter sell beer, wine, or distilled spirits to said retailer either for cash or by receiving payment in advance of delivery until such time as all payments are received for the beer, wine, or distilled spirits sold and delivered to the said retailer more than 30 days previously. . .

(c) The 42-day period and the 30-day period provided for in this section shall commence with the day immediately following the date of invoice and shall include all successive days including Sundays and holidays to and including the 42nd or 30th day as the case may be. When the 42nd day from date of invoice or the expiration of each additional 30-day period falls on Saturday, Sunday, or legal holiday, the next business day shall be deemed to be the expiration day. . .

(d) All moneys received from a retailer in payment for any beer, wine, or distilled spirits sold and delivered to him or her shall be first applied to the payment of the oldest balance on beer, wine, or distilled spirits. . .

The California credit law requires that suppliers charge specific yet varying amounts of interest to their customers based on how late their customers are with their payments, and enforce cash on or before delivery terms to any customers who have past due accounts. The federal law just requires COD or CBD terms to retail accounts in arrears.

In California, it is not easy to calculate when exactly an account is in arrears. The calculation is not made on a discrete invoice by invoice basis (as most purchase transactions are considered today in order to monitor and track specific product deliveries), but rather on a total amount of debt outstanding between the supplier and the retailer at any time basis as determined by the suppliers records. If any debt owed by a retailer goes over 30 days from the date of delivery of any specific purchase (regardless of the reason, including claimed non-receipt of the product), all subsequent transactions between that supplier and that retailer must be cash before or cash on delivery until the account is brought current. In addition, in another trap for the unwary, if any retailer debt goes over 42 days based on the same calculation, there is a mandatory 1% surcharge that must be collected before the COD requirement can be lifted, as well as another 1% payment for every additional 30 days.

The California accounting calculation provisions go back to the days (1963 specifically) when retailers and suppliers primarily operated on ledger cards showing deliveries and payments on an entire account basis rather than on individual invoices. The result is that the accounting methods that are applied to ABC transactions by the statute are different than those that apply to most modern non-alcohol purchase and sale transactions. This creates enormous accounting reconciliation problems for both retailers and suppliers when the delivery invoice is checked upon arrival and what is actually delivered doesn't match what was supposed to be delivered. For this reason many retailers just pay invoices rather than question the delivery, which can and does result in a windfall to the supplier making a short delivery in the event that the delivery mistake never gets straightened out.

In one case dating back several years a retail chain (one that has since been acquired by another chain) with central purchasing was threatened with having to send over 100 stores COD following an ABC audit investigation that showed central purchasing was over 30 days out to a specific supplier (because of unposted credit memos) until the accounting could be straightened out, and then had to face an accusation for the receipt of unlawful credit (the supplier involved, a major wholesaler, was also charged and paid the fine). In another case a large California retailer audited their own records against actual deliveries and discovered literally millions of dollars of annual DSD (direct store delivery) overcharges from certain wholesalers, who insisted on invoices being paid regardless of what was actually delivered.

The wholesaler trade organizations have maintained (since the early 1990’s) that the assessment of accounting charges relating to researching non-conforming invoices (where receipts don’t match up to deliveries, and whoever made the mistake is responsible for research costs) are prohibited “things of value,” a position that makes the cost-effectiveness of internal auditing of massive numbers of invoices where the delivery records are disputed very difficult. This is not an issue limited to California; alcohol vendors throughout the US benefit from these restrictions, and from the application of strict credit laws to the resolution of otherwise normal delivery disputes.

The issue of when the clock for a violation starts ticking is critical. The statute uses the term "date of delivery." This obviously requires all parties to keep track of actual delivery dates regardless of the date on the invoice (which may be earlier, or occasionally later) than the delivery date). While the ABC does allow 15 days after delivery to return products in excess of those ordered, after 15 days permission has to be sought from the ABC to make returns. This is a procedure that is seldom used, and there is no legal procedure for managing short deliveries.

Because of these confusing requirements, every accounting department of every winery, brewery and retailer should regularly review the credit restrictions and should structure their accounting and collection protocols to comport with the federal and state credit laws. The penalties are substantial and the odds of getting caught if there is an investigation (usually triggered by complaints from competitors) are very high because the records that are kept by both the supplier and the retailer are easily available for audit upon request of the agency as a matter of law.

Our message? Train your salespeople and accounting department and track your invoices which, by the way, are legally required to be maintained for three years.

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Booze Rules Blog

This blog is dedicated to occasional (and hopefully interesting) reports of state and national alcoholic beverage regulatory developments that we encounter in our practice. Booze Rules (and any comments below) are intended for informational use only and are not to be construed as legal advice. If you need legal advice please consult with your counsel.